Finance Case Study: Tuber Cost of Capital and Expenditure Analysis

This case study analyzes Tuber's financial position, focusing on its cost of capital and capital expenditure. The solution calculates the Weighted Average Cost of Capital (WACC) using the provided debt and equity percentages, along with the cost of debt and equity. It explores the implications of financing decisions, comparing the cost of debt and equity, and determining the total capital expenditure. The analysis includes the internal rate of return (IRR) to assess the feasibility of taking on additional debt. The assignment highlights the importance of using the cost of capital as a discount rate and provides a comprehensive overview of Tuber's financial strategy.

Running head: FINANCE AND ACCOUNTING CASE STUDY
Finance and accounting case study
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1FINANCE AND ACCOUNTING CASE STUDY
Table of Contents
Answer 1....................................................................................................................................2
Answer 2....................................................................................................................................2
Answer 3....................................................................................................................................2
Answer 4....................................................................................................................................3
Reference....................................................................................................................................4

2FINANCE AND ACCOUNTING CASE STUDY
Answer 1
Using the cost of capital as discount rate rather than assuming it on arbitrary basis is
better as the cost of capital states the actual cost for financing the business operation through
equity capital or debt. Further, the cost of capital is the blended required return rate by the
investors (Ross 2013). Therefore, it is assumed that required return rate on assets of company
is equal to that what is required by the financer. Hence, it is better than the current method.
Answer 2
Cost of each financing alternative
As per the information given in Exhibit 4 -Tuber has 2 alternatives for raising the
funds. There are through debt and through equity. Cost of debt is 9.00% whereas cost of
equity 3.795%. Further, for additional debt the cost will be 11%.
Answer 3
Tuber’s cost of capital
Total capital = Long term debt + Equity
= (90) + (20+28+90) = $ 228 million
Percentage of debt = 90/228 *100 = 39.5%
Percentage of equity = 138/228 *100 = 60.5%
Weighted average cost of capital (WACC) –
WACC = E/V * Re +D/V * Rd * (1-Tc) (Frank and Shen 2016)
Where,

3FINANCE AND ACCOUNTING CASE STUDY
E/V = Equity percentage in capital structure = 60.5%
D/V = Debt percentage in capital structure = 39.50%
Re = Cost of equity = 3.795%
Rd = Rate of debt = 9.00%
Tc = corporate tax rate = 34%
WACC = 0.03795*0.605 + 0.09*0.395(1-0.34)
WACC = 0.02296 + 0.02346 = 0.0464 or 4.64%
Answer 4
Capital expenditure for Tuber
As per the information given in Exhibit 4, it can be seen that the internal rate of return
for Tuber is 27.5% that will allow it to accept additional $ 5.0 million debt as per Exhibit 3.
Therefore, the capital expenses will be as follows –
On $ 90 million debt at 9% = $ 8.1 million
On additional $ 5 million debt at 11% = $ 0.55 Million
On $ 138 million equity at 3.795% = $ 5.23 million
Total capital expenditure = (8.1 +0.5 + 5.23) = $ 13.88 million

4FINANCE AND ACCOUNTING CASE STUDY
Reference
Frank, M.Z. and Shen, T., 2016. Investment and the weighted average cost of capital. Journal
of Financial Economics, 119(2), pp.300-315.
Ross, S.A., 2013. The arbitrage theory of capital asset pricing. In Handbook of the
fundamentals of financial decision making: Part I (pp. 11-30).